Making Pensions Part of the Plan
What a difference a year makes. At the beginning of 2020, we wrote that pension funds in the U.S., the U.K., and Canada were at the highest funded levels in 10 years. As we continue to reflect on the past year, we are reminded that such favorable market conditions do not often last. The COVID-19 pandemic has impacted PDF Opens in a new window our families and communities, changing the way we work and interact with each other. It has also created significant economic volatility for global markets and pension plans.
As we noted in our 2020 Year in Review and 2021 Market Outlook, it isn’t all bad news for plan sponsors. Well-positioned plans that stayed the course took advantage of improving market conditions. The importance of being prepared to de-risk will continue to be a theme in 2021 as we again expect significant levels of buy-ins and buy-outs in the U.S., the U.K., and other countries. Amidst ongoing market volatility, it is now more critical than ever for plans to consider their de-risking plans not just on a standalone basis, but as part of broader corporate transformations.
Enterprise transformations have increased in popularity over the past several years and will continue to gain momentum in C-suites in 2021. McKinsey notes, “In industry after industry, scenarios that once appeared improbable are becoming all too real, prompting boards and CEOs of…businesses to embrace the T-word: transformation.”1 Deloitte noted, “In a world of unprecedented disruption and market turbulence, transformation today revolves around the need to generate new value—to unlock new opportunities, to drive new growth, to deliver new efficiencies.”2 Both consultants encourage companies to transform big, rather than incrementally.
Whether focusing on growth, cost cutting, or technology, global transformations are changing the way executives manage their organizations. Seventy percent of global CEOs planned organic growth activities in 2020 and 77% planned to focus on operational efficiencies.3 Additionally, 83% of companies are currently planning to accelerate digital transformation.4 However, a company’s legacy pension plan may feel like an increasingly undue burden to management and shareholders as these transformations gain steam. It may prevent them from focusing on the execution of new corporate strategies and detract from the creation of shareholder value.
Rightsizing the amount of pension risk on a balance sheet can be instrumental to a broad, transformative strategy by reducing the distraction of unnecessary pension noise. Decreasing pension exposure is particularly important in times of market volatility, like today, as COVID-19 and related economic reform measures continue to impact global markets. We believe that many companies that thought long term and de-risked ahead of the storm fared better than those who did not.
The benefits of incorporating pension de-risking into large transformations start with helping to secure the pensions and financial wellness of employees and retirees, but can also:
- Decrease or eliminate future pension contributions and, as a result, increase cash flow to spend on research and development or mergers and acquisitions
- Enable a focus on restructuring initiatives
- Improve stock market returns when compared with pension-heavy peers
We examine each of these benefits in this article and will continue to do so in articles that follow.
Research and Development & Mergers and Acquisitions
Imagine a budget free of annual pension contributions and an earnings season devoid of pension volatility. Consider the innovation and M&A opportunities that could arise from the improvement in free cash flow. While this future may sound aspirational if you currently have a material pension benefit obligation, it shouldn’t be viewed as an insurmountable goal. Pension de-risking is a tangible step that can be taken to drive transformational change.
Case Study – Bristol Myers Squibb
We believe Bristol Myers Squibb (BMS) transformed itself from a traditional pharmaceutical company into a diversified yet nimble bio-pharma innovator over the last few years. In our opinion, management decisions over the past decade seem to have been made with this strategic vision in mind. This includes multiple pension de-risking moves that began in 2009 and have since become part and parcel of the company’s broader enterprise transformation.
BMS began its de-risking journey by freezing its U.S. plan in 2009. It announced five years later in September 2014 the buy-out of $1.4 billion in U.S. pension obligations for approximately 8,000 retirees and their beneficiaries. The plan was in a strong financial position and the de-risking transaction required no cash contribution, leading the company to note in a press release, “The transaction reduces risk in the Plan and better manages the ongoing variations in cost associated with its maintenance while entrusting current retirees and their beneficiaries’ pensions to a financial institution with expertise in the long-term management of retirement benefits.”5 Within six months of the pension risk transfer, BMS acquired Flexus Biosciences for $1.25 billion and entered into a $339 million partnership with Rigel Pharmaceuticals. The collective moves enhanced BMS’s portfolio of cancer immunotherapies while bolstering its innovation pipeline and R&D capabilities.
BMS continued its transformative path in December 2018 with the largest full wind-up of a pension plan to date. The pension buy-out transferred $3.8 billion in U.S. pension liabilities to an insurer that, in turn, guaranteed a group annuity contract to any plan participant not paid with a lump sum. Unlike the buy-out in 2014, the 2018 de-risking transaction included a combination of retirees, active employees, and prior employees whose income payments had not yet commenced.
While BMS was transforming its U.S. pension obligations by fully insuring its plan and better meeting the retirement needs of a more modern and mobile workforce, it was also continuing to transform its business model. In January 2019, just days following the plan buy-out announcement, the company disclosed plans to acquire Celgene for $74 billion. The combined company created “a leading focused specialty biopharma company well positioned to address the needs of patients” with plans to “operate with global reach and scale, maintaining the speed and agility that is core to each company’s strategic approach.”6 Management continued to put additional cash to work in October 2020 when it acquired MyoKardia for $13 billion.
Together with the plan termination, the Celgene and MyoKardia acquisitions demonstrated BMS’s commitment to focusing on sustained growth, innovation, R&D, and M&A. We believe that by transforming its pension plan in lockstep with transforming its business model, BMS was able to maintain a holistic focus on its growth potential, balance sheet, and value provided to shareholders.